Last year, the One Big Beautiful Bill Act (OBBBA) was passed. As was widely reported, the OBBBA includes a new federal income tax deduction related to overtime pay. This provision was touted as the “no tax on overtime” law. Unfortunately, the truth is far more nuanced than the tagline—“no tax on overtime.”
A quick review of the overtime provision in the OBBBA reveals that like most tax bills, the devil is in the details. Under the OBBBA, overtime compensation is taxed as any normal wage when paid. Individuals who receive qualified overtime compensation may deduct for federal income tax purposes qualified overtime pay that exceeds the regular rate of pay required under the Fair Labor Standards Act (FLSA) as reported on the employee’s W-2. Qualified overtime pay is limited to overtime pay required by the FLSA. If an employee receives overtime pay required by state but not federal law, such amounts are not qualified overtime compensation under the OBBBA and no portion is deductible by the employee for federal income tax purposes.
It is likely the deductible amount may be less than employees expect. The amount that is deductible is not the full amount of the individual’s FLSA required overtime compensation. Rather, it is the portion that exceeds the individual’s regular rate of pay as determined under the federal law. Therefore, an eligible employee who receives $20 per hour as regular pay and $30 for any overtime hours is only able to deduct the $10 per hour in required overtime pay [($20 * 1.5) – $20 = $10]. The actual value of this tax deduction depends on the employee’s marginal tax bracket.
Further, the maximum annual deduction is limited to $12,500 ($25,000 for married filing jointly). The deduction phases out for taxpayers with modified adjusted gross incomes over $150,000 ($300,000 for married filing jointly). The deduction is not available at all if the employee’s marginal adjusted gross income is at or above $275,000 ($550,000 if married filing jointly).
Finally, the deduction is only effective for tax years 2025, 2026, 2027, and 2028.
On the bright side, the deduction is allowed for both itemizers and non-itemizers, provided the individual includes the individual’s social security number on his/her tax return. If an individual is married, they must file a joint return in order to qualify for the overtime pay deduction.
Davenport, Evans, Hurwitz & Smith, LLP, located in Sioux Falls, South Dakota, is ready to assist clients with employment law matters. To connect with our team, call 605-336-2880, email [email protected], or find a specific lawyer here.